An overlooked part of the tech industry is facing enormous pressure - and it's threatening to tank the entire sector

Reuters

• As mega-cap companies have dominated headlines, an under-the-radar area of the tech industry has come under serious pressure in recent weeks.
• Following a rash of downgrades across Wall Street, stock prices in the area have come under considerable pressure - and any further weakness could destabilize the market-dominating tech sector.

As social-media platforms and paradigm-shattering innovations regularly dominate headlines in the tech sector, there's a largely overlooked area that keeps it all humming.

That would be semiconductors - or the memory chips that are so crucial to the functionality of products like cell phones, PCs, TVs, refrigerators, and Wi-Fi devices, among many others.

Yet while semiconductors are a roughly $500 billion industry, they're often left out of discussion when people assess tech's long-running market dominance.

This oversight occurs despite the group's market-crushing performance during the 9-1/2-year bull market, which has seen the Philadelphia Semiconductor Index spike more than 600%. That's handily outpaced both the S&P 500 (+327%) and the tech companies in the benchmark (+550%).

Instead, most of the focus is on companies like the so-called FAANG contingency, which includes Facebook, Amazon, Apple, Netflix, and Google-parent Alphabet. After all, they're some of the biggest firms in the market, and they carry huge weightings in major indexes.

But in recent weeks, chipmakers have been thrust into the spotlight. As their stock prices have come under fire, they've caught a great deal of flak from industry experts, who look ready to turn their back on the group altogether.

It highlights the stark reality surrounding semiconductors: When the sector is thriving, no one notices. But when things start to go south, everyone wants to point the finger.

Recent semiconductor weakness

To get an idea of the pressure facing the semiconductor space, it helps to look at Intel. It's the biggest US chipmaker, which makes it a valuable bellwether for industry sentiment.

Unfortunately for semiconductor bulls, Intel's stock is down 22% since the start of June. Meanwhile, the aforementioned Philadelphia index has dropped 5.2% over the same period, badly lagging the S&P 500 and tech-heavy Nasdaq 100 indexes, which both climbed more than 5%.

Markets Insider

This week, the carnage in chipmakers has spilled over into broader tech indexes. The Nasdaq 100 dropped as much as 1.1% on Wednesday while other US gauges stayed largely unchanged - weakness that many experts attributed to renewed selling in semiconductor stocks.

A quick glance at Wednesday's worst performers in the Nasdaq reaffirms this notion. Micron Technology, KLA-Tencor, and Lam Research - all chipmakers - dropped more than 3%.

Wall Street is turning its back on semiconductors

Bearish calls on chipmakers have gathered steam in recent months. But they reached a fever pitch this week amid pointed research reports from the likes of Goldman Sachs and Stifel.

On Wednesday, Goldman lowered its view on the sector to 'neutral' from 'attractive,' citing diminishing capital expenditures in the space. The firm also predicts that margins will contract going forward, as indicated by this chart:

Goldman Sachs

Stifel joined the bearish chorus with four single-stock downgrades of its own. The firm is worried about tariff-related uncertainties, below-seasonal industry growth trends, and rising interest rates, according to a client note also published on Wednesday.

This all follows an ominous warning that was issued by the aforementioned KLA-Tencor last week. The semiconductor manufacturer lowered its full-year 2018 outlook, signaling the same type of slowing growth that rocked Facebook earlier this year.

In the end, while the broader tech sector is facing a sudden glut of headwinds - most notably the prospect of increased regulation - it's this sudden sea change in chipmaker sentiment that could be its ultimate undoing.

Because semiconductors make everything run, and they represent a crucial - if not underappreciated - pillar of strength for the industry at large.